Cost of money often matter of fees

The dreaded day is on the horizon. That day when, hat in hand, you carry your filing folder full of financial information to your local lender to obtain financing for yet another production year.

For many farmers, the stress of having to grovel for the money needed to operate a farm is compounded by the confusion that can set in as you sign what seemingly amounts to a ream of paperwork, each one increasing your loan amount with one bank fee or another.

The added costs, disguised as loan origination fees, documentation fees, legal fees, filing fees and interest can, in some instances, increase an annual production loan by several thousand dollars.

In order to better understand the costs associated with obtaining production financing, three Mississippi Delta farmers have given Farm Press access to their financial records for the 2001 production season. The names of the farmers have of course been changed in order to protect their privacy.

Our first farmer, Jack, borrowed $350,000 from his local bank in November 2000 to cover the annual expenses related to the production of 1,970 acres of cotton, 210 acres of milo, 125 acres of corn and 260 acres of soybeans.

Jack's lender charged him 10.95 percent interest on his loan, and tacked on a $750 loan origination fee, a $50 documentation fee, and filing fees of $90.50.

About 10 miles to the north of Jack, Farmer Sam signed a $210,763 production loan with the same local community bank.

Sam's 2001 production loan, signed on Dec. 13, 2000, provided the operating cash needed to grow 470 acres of rice, 200 acres of soybeans and 140 acres of wheat. He was charged a 10.95 percent interest rate, a $500 loan origination fee, $150 in legal fees and $113 in recording and filing fees.

In comparison, farmer Fred, who lives just a few short miles down the road from farmer Sam, borrowed $384,000 in November of 2000 from another local bank and was charged a total of $121 in bank fees.

His production loan, which covered 460 acres of rice and 1,200 acres of soybeans, included interest rate charges of 11 percent, Uniform Commercial Credit (UCC) filing fees of $21, and a loan application fee of $100.

All three farmers, unfortunately, came up short in July 2001 and had to return to their local lenders for supplemental production loans. The good news is that interest rates and bank fees dropped substantially for the second go-around.

Jack, who secured $150,000 in additional funding, and Sam, who borrowed $40,000 more, each paid $50 in documentation fees and had interest rates of 8.5 percent set on their loans. Fred was charged 9 percent interest and a $25 application fee on his supplement $50,000 production loan.

Why the differences?

“The interest rates are competitive from bank to bank, so the fees are just one way for banks to make more money on the front end,” says James Atkinson, vice president of The Bank of Benoit in Benoit, Miss.

These fees, which can differ drastically from one bank to the next, may be one way producers can cut costs in 2001. To do that, though, producers must understand what these fees are based upon, where the money goes, and whether or not each fee is negotiable.

“Everything is negotiable because banks are like other businesses — they're going to try to make money if they can,” says Atkinson. “The farmer needs to know what he's paying for. It's just good business sense for a farmer to ask what he's paying for, and I appreciate someone who pays attention to his business.

“Money is too tight and he doesn't need to be throwing it away.”

The loan origination fee, which is often the most substantial charge added to production loans, is, according to several banks, simply a “servicing” fee.

Joe Ricotta, president of Community Bank in Indianola, Miss., considers the loan origination fee a servicing fee, which covers the initial loan set-up process and any loan servicing required throughout the production year.

Randy Randall, president of Planters Bank in Indianola, Miss., says his bank sets an origination fee of one-quarter of 1 percent with a maximum not to exceed $300 per loan. “It is an income fee for the bank and it covers the administration costs related to loan preparation, documentation and any other required paperwork.”

Atkinson says his bank doesn't charge a loan origination fee. “We charge a loan fee, which ranges anywhere from $25 to $100 and covers the cost of paperwork.”

“A loan origination fee is simply a fee on the front end for the initial production year,” he says. “After the first year, the farmer really should say something to their banker about it because otherwise the lender is going to continue charging the fee if he or she can get away with it.”

Richard Monson, with the Southwest Georgia Farm Credit Association, says, “The setting of fees for most institutions is really an income enhancement generator. Most banks price to the market and if a person is fee-sensitive, the bank may give some on the fees but increase their interest rate.”

“In theory, the origination fee should cover a significant portion of the work required to underwrite that initial production loan and then that fee should drop if the loan is on a renewal basis,” he says. “By law, your loan disclosure package must outline any fees and interest being charged. A farmer needs to closely examine the disclosure statement and ask if the fees are reasonable and, if not, negotiate those fees with your lender.”

Both the loan origination fee and documentation fee are “subjective” depending on the workload required, and are probably the most negotiated fees set by the bank, one bank president admits.

A documentation fee, Ricotta says, covers the paperwork itself. “Farm loans generally are more labor intensive than other types of loans due to crop inspections and other servicing requirements.”

Unlike origination fees and documentation fees, Uniform Commercial Code (UCC) filing fees are set by law and are based on the variety of crops produced and the counties where those crops are produced.

The same is not true for legal fees, which can differ depending on what legal work is required and which lawyer you hire. Some lending institutions require that new title opinions be filed each year and some do not.

What about interest rates? How are rates set and do they differ from customer to customer?

Atkinson says interest rates at his bank are based on the type of loan, but as a rule are 1.5 to 2 percent above New York prime, which at the first of November was set at 5.5 percent. “Our production loan interest rate charges change whenever the New York prime rate changes. Every time (Federal Reserve Chairman Alan) Green-span does something, we do something.”

Interest rates at Community Bank, Ricotta says, are based primarily on risk, repayment capacity and collateral. “If all of these are at levels that reduce the bank's risk, we'll likely charge that customer a lower interest rate.”

At Planters Bank, Randall says, all farm credit lines are charged a variable interest rate. “We set a base rate for our best customers and the more marginal credit loans are priced at one-half to 1 percent over that base rate, based on their collateral, repayment capacity and past credit performance,” he says.

“Our base interest rate is set the first of every month based on the cost of funds. It is not directly related to New York Prime, but is usually close to it.”